Energy-Credit Buyers Beware

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Executive Summary

Reprint: F0609E

Companies are buying millions of dollars’ worth of renewable energy credits (RECs) to offset the carbon produced by the electricity they use. But RECs have little effect on the environment, the author says.

Companies are increasingly touting their green side, hoping that their show of conscience will appeal to customers and maybe even help the planet. One way they’re doing this is by buying renewable energy credits (RECs), instruments that, in theory, offset the environmental impact of the purchaser’s “dirty” energy use by subsidizing clean energy from renewable sources such as wind. Companies like Starbucks, Johnson & Johnson, Staples, and FedEx Kinko’s are all prominent energy-credit buyers, and, last January, Whole Foods Market stunned even these giants by buying enough RECs to offset 100% of the company’s annual electricity use—the largest wind-energy credit purchase in U.S. history.

Buying RECs may generate good press—“Whole Foods Goes with the Wind,” announced a recent headline in USA Today—but these purchases don’t always help the environment as advertised.

Utilities that generate renewable power through wind, solar, small hydro, or other means sell two things: actual electricity, and, separately, credits that represent the environmental benefits, as measured by reduced carbon emissions, of their cleanly produced product. Thus, one purchaser may buy a kilowatt-hour of clean electricity but a separate purchaser may buy “rights” to the environmental benefit of that same unit of electricity.

On paper, anyway, a purchaser whose use of electricity from a coal-fired plant generates, say, a ton of CO2 may offset that pollution by buying RECs that represent an equivalent amount of nonpolluting electricity. The money paid to purchase those RECs, in theory, subsidizes the higher cost of producing clean electricity, making this alternative competitive, or creates a market mechanism that will cause more renewables to be produced.

There’s a problem with this calculus, though: The clean electricity that a wind farm produces, for example, is fed into the utility grid for distribution regardless of what becomes of its associated RECs. Those RECs are handled independently; they may be sold for a lot or a little, immediately or sometime in the future. Right now, huge surpluses of low-priced RECs are flooding the market, and the cost of an REC represents just a fraction of the added expense of making green power. Therefore, the purchase of a kilowatt-hour worth of RECs does not necessarily displace a kilowatt-hour of dirty electricity; nor, by extension, does it reduce the amount of CO2 entering the atmosphere.

In short, it’s doubtful that most RECs are delivering the environmental benefits ascribed to them. So where does this leave companies that genuinely want to reduce the environmental impact of the electricity they use?

Happily, RECs do provide some environmental and social value—even if they don’t directly reduce carbon emissions. In some cases, REC brokers have an ancillary mission to foster renewable energy production. Instead of just pocketing all the profits, REC sellers like Community Energy and the Bonneville Environmental Foundation earmark a portion of their profits for new renewable energy development. Another group, NativeEnergy, uses RECs to support wind on Native American reservations, which has social as well as environmental benefits. REC sales themselves sometimes subsidize otherwise untenable renewable energy projects. For example, a solar installation may not have an acceptable payback until the RECs from that project are sold. And REC purchases, such as that made by Whole Foods, get national press and so increase public awareness of the need for climate protection.

But buyer beware: Not all RECs are created equal. Companies purchasing RECs should, at a minimum, be sure that these are certified to meet environmental and consumer protection standards by a third party called Green-e. Buyers should determine how the revenues from the RECs they plan to purchase are used by the brokers that sell them. And buyers should also look to the reputation and mission of the REC seller.

If your goal is to claim that your company offsets the carbon produced by 100% of its electricity usage, buy RECs and leave it at that. But if your goal is to directly reduce carbon emissions, there are better ways to do that, such as investing in a new wind farm.

A version of this article appeared in the September 2006 issue of Harvard Business Review.